Captive Auto Lenders' Demand Notes Scrutinized

Article excerpt

A recent Securities and Exchange Commission fine against Ford Motor Credit Corp. has put a spotlight on something captive finance companies have increasingly been using as a source of cheap short-term funding: demand notes.

The steady decline in their credit ratings since 2001 has forced General Motors Acceptance Corp. and Ford Credit to reduce their reliance on short-term funding sources like unsecured commercial paper. But the issuance of demand notes by the General Motors Corp. and Ford Motor Co. units has surged in that same period.

The unsecured, floating-rate notes are offered to individual investors, who can invest as little as $1,000 and can then write checks against the accounts as they would with a money market fund.

The SEC's scrutiny of demand notes began a year ago and came to light last month, when the agency fined Ford Credit $764,282 for inadequate disclosures related to the "Ford Money Market Account."

Because the Federal Deposit Insurance Corp. does not insure demand notes, their rates are considerably higher than those on money market accounts -- but comparable to what the units pay for 90-day commercial paper.

Ford Credit and GMAC have offered demand notes since the 1980s, but from the end of 2000 through the end of last year, each of the two units doubled its demand notes outstanding, to $9.15 billion for GMAC and $7.7 billion for Ford Credit. Over the same period each lender's outstanding unsecured commercial paper fell 80%, to $8.4 billion for GMAC and $8.9 billion for Ford Credit.

The SEC announced the fine June 14, less than six weeks after Standard & Poor's Corp. downgraded Ford Credit's debt to junk status. The regulator said some of the marketing materials did not make it clear that the notes were corporate debt, not traditional money market accounts. (It did not accuse Ford of fraud.)

"We thought that our bringing the case would direct the spotlight on the issues of risk and return involved in corporate money market investments more broadly," said Peter Bresnan, an associate director of enforcement at the SEC. …